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Adaptive Portfolio Enhancement
When it comes to critical investment decisions, most people make the wrong moves with their money. The average investors' portfolio suffers from poor performance.
Studies dramatically illustrate this phenomenon, both Lipper and Dalbar have concluded that the average annual return for the average U.S. equity mutual fund significantly outperforms the average annual return for the average equity mutual fund investor.
The gap between the average mutual fund return and the average investor return can only have resulted from inappropriate investor behavior. These studies clearly indicate that a dominant determinant of real life returns is investor behavior.
Emotionally Based Investment Mistakes
OVERDIVERSIFICATION
Overdiversification is the inability on the part of individuals to make meaningful investment choices. You own nothing by owning everything. You've become a collector instead of an investor. An overdiversified portfolio can be compared to a very large, inefficient index fund. There will usually be tremendous gaps and duplications. And everything is owned in a very expensive and suboptimal way. The goal should be a diversified portfolio of a finite number of meaningful securities.
UNDERDIVERSIFICATION
Underdiversification is the fatal narrowing of a portfolio down to essentially one idea. People oftentimes will chase what's hot, or they will invest most of their money in just one stock or idea. Either way, putting all your eggs in one basket is fatal. As the market climbs toward its peak, what's hot will narrow to one idea and when the market corrects, all the lights tend to go out quickly. The market will find a way to destroy you when you have a large percentage of your net worth invested in one stock or idea. Recently investors became underdiversified by holding historically large cash positions.
EUPHORIA
Euphoria is marked by a feeling of intense enthusiasm that principal loss is no longer a possibility. Most people overcome by euphoria fail to grasp that when the market rises, so does the risk of a significant decline. Risk is always greatest when people are only thinking about how much money their neighbors are making. The big mistakes of underdiversification and euphoria are usually made simultaneously. For example: the Internet in 1999 and real estate in 2005.
PANIC
It seems that the higher the euphoria, the deeper the panic. People always have a rationale for their decision, because panic rationalizes itself. They usually point to a market event or crisis as the reason for cashing out, but that's never the underlying reason. The reason most people panic is fear. You can't deal effectively with panic until you realize you're panicking. It's your mind that's moving! The crisis isn't the problem; it's your behavior, driven by fear, that's the problem. And the mortal enemy of investment success is fear.
SPECULATION
A speculator always tries to capture a price movement. He believes that as price goes up, value goes up. He is usually intoxicated with euphoria and is oftentimes underdiversified as well. Speculation usually ends in disaster, because a speculator fails to appreciate that as the price goes up, the risk goes up and the value goes down.
INVESTING FOR CURRENT YIELD INSTEAD OF TOTAL RETURN
This is the classic mistake of retirees. Current yield is not the test of an investment's income-producing potential. Total return is. Investing in bonds will give you the highest current yield but the lowest total return. Conversely, investing in equities will give you the lowest current yield but the highest total return.
LETTING TAXES DICTATE YOUR INVESTMENT DECISIONS
If you succumb to this mentality even for a moment, it will hurt you. Fortunes have been lost when owners of highly appreciated stock refused to sell and diversify the proceeds because of the capital gains tax. Ignore taxes and especially the timing of taxes. Forget your cost basis and just keep migrating toward disciplined diversification, and good things will happen to you through the years.
LEVERAGE
Using leverage to cure the problems of too much leverage is denial.
To schelule a retirement strategy session- call 707- 836- FUND
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